Hurdles remain despite diagnostics industry’s promise

The diagnostics industry is in a state of flux as pharmaceutical companies recognize the value of new tests to guide targeted drugs and devices, but regulatory and reimbursement struggles have made investors wary.

Over the past two years, 23 life sciences companies have gone public, and those in the diagnostics and tools space are trading at 48 percent below their IPO price on average, according to an analysis by Bruce Booth, a partner at Waltham venture Capital firm Atlas Venture.

One of those companies is Waltham-based BG Medicine (Nasdaq: BGMD) which went public a year ago in February 2011, with a diagnostic to detect heart failure that had already been approved by the FDA. But to date, the company has not seen significant sales of its test, and is waiting for a big boost after receiving additional regulatory approvals in the U.S. and Europe to be included in a panel of tests run on its partners’ automated instruments.

“The business model of the company was always based on being sold as content for our partner’s instruments, and not the manual test, which is the one now approved,” said BG Medicine’s new CEO, Eric Bouvier. Bouvier, a former executive at bioMerieux, a European instrument maker and one of BG Medicine’s partners, replaced former CEO Pieter Muntendam last month. Muntendam is staying on as chief medical officer.

Bouvier said he expects partners Abbott Park, Illinois-based Abbott Laboratories (NYSE: ABT) and Waltham-based Alere Inc. (NYSE: ALR) to win U.S. approval for BG’s test, called AMIPredict, as part of its instrument panels in the second quarter of this year, followed by an approval for the test as part of bioMerieux’s instrument early next year. “How many diagnostics companies have four large partners?”

But the multiple approval process is complex, as is the reimbursement landscape for new tests. Bouvier said the company is currently seeking a so-called CPT code, which will enable doctors to bill Medicare and Medicaid for the tests. Only after that, Bouvier said, would the company lobby for reimbursement from private insurers. Bouvier said the company first had to educate doctors.

“The majority of cardiologists are now aware of our test; that was not the case two years ago,” Bouvier said, “we are now focused on educating primary care physicians.”

Bouvier said he expects the ramp-up for the test will be in 2013, and BG Medicine will be paid per test by its partners.

But the value of diagnostics to reduce health care costs and improve the quality of care far exceeds the price-per-test that many diagnostic companies fetch, some analysts say.

“About 65 percent to 70 percent of clinical decisions are predicated on diagnostic data,” Gerry McDougall, partner-in-charge at PricewaterhouseCooper’s health science and personalized medicine practice. “But from a regulatory, reimbursement and business model standpoint, there are significant challenges to overcome.”

In the case of companion diagnostics, which serve to identify a population that will benefit most from a drug, making a profit from the diagnostic isn’t even a consideration.

Case in point: Biogen Idec’s (Nasdaq: BIIB) test to screen for antibodies to the JCV virus, which is responsible for the rare but sometimes fatal brain infection progressive multifocal leukoencephalopathy (PML). PML is associated with long-term use of Biogen’s multiple sclerosis therapy, Tysabri. The test, developed by Biogen, was approved by the FDA in August, and is licensed to Quest Diagnostics Inc., which will carry out the tests at its labs. Biogen is paying Quest, per test, but is not receiving reimbursement from insurers yet. Biogen spokeswoman Kate Niazi-Sai said, “We are not charging doctors or patients for the test at this time.” The upside, for Biogen, is that the availability of the test may encourage doctors to increasingly prescribe Tysabri as a first-line treatment, before trying other drugs, for patients who are negative for the virus. The value of added Tysabri sales is likely far greater than the losses Biogen will take on the test.

Pharmaceutical companies are increasingly seeing the value of diagnostics to driving sales of their drugs, prompting a wave of mergers and acquisitions in the space.

Swiss drug maker Roche’s recent hostile $5.7 billion bid for San Diego-based genomics and diagnostics company Illumina (Nasdaq: ILMN) is just the latest in a raft of deals, according to PricewaterhouseCooper’s recent analysis, which found total M&A deals in the space topping $15 million in the first seven months of 2011.

“The jury is still out as to whether pharma companies bringing diagnostics businesses in-house will become the dominant model, or whether we will see more partnerships between the two,” McDougall said.